Diversification in risk management refers to which term?

Diversification in risk management refers to which term?

• A. Isolation
• B. Diversification
• C. Aggregation
• D. Hedging

Answer: (B)

Diversification is the practice of spreading risk across a mix of assets, lines of business, or geographic areas to reduce the impact of any single loss event. By combining exposures that aren’t perfectly correlated, the overall variability of losses is lowered, which reduces unsystematic risk while leaving the unavoidable systemic risk intact. For example, an insurer might mix property in different regions and with different property types, so a loss in one area doesn’t wipe out the entire portfolio. Hedging, on the other hand, uses instruments or contracts to offset potential losses, rather than spreading risk across many exposures. Aggregation involves bringing risks together to assess the total exposure, which can actually increase apparent risk if concentrations exist. Isolation isn’t a standard term in this context. So diversification best captures the idea of reducing risk through a balanced, varied mix.

Diversification is the practice of spreading risk across a mix of assets, lines of business, or geographic areas to reduce the impact of any single loss event. By combining exposures that aren’t perfectly correlated, the overall variability of losses is lowered, which reduces unsystematic risk while leaving the unavoidable systemic risk intact. For example, an insurer might mix property in different regions and with different property types, so a loss in one area doesn’t wipe out the entire portfolio.

Hedging, on the other hand, uses instruments or contracts to offset potential losses, rather than spreading risk across many exposures. Aggregation involves bringing risks together to assess the total exposure, which can actually increase apparent risk if concentrations exist. Isolation isn’t a standard term in this context. So diversification best captures the idea of reducing risk through a balanced, varied mix.